April 06th 2021 is an important date in next year’s calendar. It is when the Off-Payroll legislation comes into effect in the private sector and the responsibility for assessing a contractor’s employment status switches to the hirer. Firms that engage limited company contractors should start preparing now to help ensure smooth and proper implementation.
What is the Off-payroll legislation?
The legislation is billed as reform of the intermediaries legislation, despite the two being completely separate statutes. The original legislation, which will still apply to contract engagements with small companies, is found in Chapter 8 of the Income Taxes Earnings and Pensions Act (ITEPA) 2003 and was always referred to as IR35. It sets out the tax rules to be applied to limited company contractors who are considered “deemed employees”.
Since 2000, when IR35 came into effect, contractors have been required to assess the tax status of their own engagements and calculate the tax appropriately. From April, the onus lies on the hirer, which can also be liable for extra employment taxes where an individual is deemed ‘employed for tax purposes’.
Assessing employment status is complex. HMRC can pursue companies for backdated tax sums when it believes an incorrect assessment has been made. A thorough compliance process is essential.
Firms must understand that there are fundamental differences between the original legislation and the new legislation. Adopting an old approach is simply not going to be enough. HMRC runs IR35 cases differently today, and the case law has moved on considerably. Any compliance strategy will need to be built around a solid understanding of how cases are now defended and argued in court.
The perils of non-compliance
Additional administration along with the risk of tax liability has seen many businesses taking a blanket ban approach to engaging contractors via limited companies. It happened in the public sector in 2017 and again in the build-up to April 2020 before Covid-19 brought about a pause.
Inaction by hirers in the public sector saw the widespread adoption of non-compliant blanket approaches to status assessments, causing contractor walkouts, recruitment struggles, and disruption and delays to projects. However, after many public sector bodies bore the brunt of these self-imposed blanket bans, many of them now routinely hire “outside IR35” contractors.
Those thinking about taking a similar blanket approach must acknowledge several issues:
- Contractors who believe they are outside IR35 are highly unlikely to accept an ‘inside IR35’ contract.
- Contractors who do accept an ‘inside IR35’ engagement will likely try and increase their rates to compensate for the accompanying tax increase.
- Firms that rely heavily on contingent labour and cannot afford to pay up to 40% more for contractors must adopt a compliance regime.
For these reasons, firms need to consider the risks, such as how dependent they are on contractors and how they stand to be affected by their planned approach to the Off-Payroll legislation. Can they handle the disruption and damage associated with a blanket approach, or is a considered compliance process necessary?
How much time do we have to prepare?
Those opting to comply with the Off-Payroll legislation have until 6 April 2021 to get their house in order, although the timeline for preparation will depend heavily on the length of any contingent engagements.
Contracts that begin before April 2021 but overlap present a tax risk to companies that haven’t confirmed the IR35 status of those engagements through adequate preparation and the implementation of robust compliance processes.
This means companies hiring contractors on three-month contracts feasibly have until January 2021 to establish compliance protocols. To afford more preparation time, a company might consider temporarily issuing short-term contracts, an approach that many may have already taken given the current COVID-19 situation.
How to assess a workforce
It is vital that compliance protocols are established now. Key to a cohesive transition is sourcing trustworthy compliance advice and accurate status assessments. There are several characteristics to seek in a compliance service, including:
- Demonstrably accurate status assessments.
- Compliance-led services that offer ongoing protection.
- Pedigree in IR35 matters, including recent tax tribunals.
- Fast, cost effective and administratively efficient.
Though contract reviews by some IR35 legal specialists will tick these boxes, the necessary expertise is in scarce supply, and few organisations will have the capacity to assume the work required of them by firms with large flexible workforces. Fortunately, specialist, scalable compliance solutions are available online, providing easy and affordable access to the necessary expertise.
While HMRC also advocates its Check Employment Status for Tax (CEST) tool for status assessments, the consensus within the contract market is that the tool is skewed towards delivering ‘inside IR35’ determinations.
Evaluating the contingent workforce
It is important for hirers to establish which contractors require status assessments – i.e. limited company contractors who firms intend to retain beyond April 2021. At this stage, an initial assessment of each engagement based on the information at hand can help gauge which contracts pose problems and which projects might be at risk because of the rollout.
Having evaluated the contingent workforce, a quality compliance solution or provider can help identify engagements posing an IR35 risk and propose risk mitigating wholesale changes to working conditions.
Unfortunately, despite changes made to working practices, it may be impossible to retain certain contractors on an ‘outside IR35’ basis. Though contractors can obviously work within scope of the legislation, the costs of such engagements need to be considered by companies, with some contractors likely to increase their rates in response to their deemed status and subsequent tax increase.
Negotiate engagements before April
Once the workforce is profiled and full status assessments have been conducted, communicate with your contractors so they understand likely outcomes. Having considered the financial impact of ‘inside IR35’ engagements on the business, firms will be better placed to discuss any rate renegotiations with contractors.
Where contractors and firms cannot reach agreement on any new terms, the existing ones will need to be served termination notices. An engagement model for those remaining on an ‘inside IR35’ basis will need to be agreed. With the renewed rise of non-compliant payroll schemes an increasingly prominent concern in the market, firms seeking to engage employee-like temporary workers who wish to entirely eliminate any tax risk would be advised to issue fixed-term employment contracts.
Ongoing compliance is crucial
The impact on contractors working in the private sector cannot be underestimated along with the impact on those companies that rely upon their skills. Off-Payroll compliance will prove vital to a firm’s continued engagement of talented contractors, who will seek engagements where they can secure fair tax treatment reflecting their true “outside IR35” status. Those mistreated are likely to increase their rates or seek work elsewhere.
A diligent, structured approach to compliance not only mitigates risk and appeases contractors, it also minimises the added administrative and financial burden of hiring “deemed employees”. The challenge for hiring firms is to navigate the new Off-Payroll world without exposing themselves to an excessive administrative burden or financial risk. Though Off-Payroll compliance may seem burdensome, it is a relatively swift and simple process for businesses that act early and adopt a quality compliance solution. Fulfilling these requirements should ensure a company continues to benefit from ad-hoc access to key skills without any of the damage or disruption that the Off-Payroll legislation threatens.
But, remember, Off-Payroll compliance is an ongoing process and working practices must continue to reflect the written contract.
Insurance alone is not the silver bullet
Some may view insurance as an alternative to robust compliance processes, but this would be foolhardy. Insurance can prove invaluable, and all businesses are advised to at least secure tax investigation insurance.
However, if a company or client views tax liability insurance as the silver bullet that will negate their compliance obligations, they should be reminded that insurance exists to compensate in the event of unforeseen circumstances, and not to recompense for ill-considered compliance decisions leading to non-payment of due tax.
Insurance companies will expect claimants to endeavour to arrive at the correct status determination and are unlikely to pay out if certain measures have not been taken. This will be explained in the small print of any insurance policy.
Put simply, an off-payroll defence must be founded on solid compliance and then optionally supplemented by insurance. As the old saying goes “prevention is better than cure.”
Firms must get their houses in order well in advance of April 2021. If a company or client has failed to address the Off-payroll legislation thus far, an exploratory discussion into their compliance plans could help prevent a nasty surprise.
The weeks leading up to April 2021 are critical for those companies that rely on contractors to get projects done. Those firms which act early will reap the rewards.